A decision by the US Internal Revenue Service (IRS) on mortality assumptions could save pension sponsors billions in contributions and de-risking costs next year, according to Moody’s.
The tax agency used 15-year-old life expectancy data in its latest update, published at the end of July. US defined benefit (DB) pensions rely on the assumptions to help calculate liabilities.
“Without addressing the underlying causes of pension plan funding levels… [it is] simply kicking the can down the road.” —Moody’sThe decision to use “outdated” figures came despite the Society of Actuaries (SOA) publishing data showing increased longevity. The SOA estimated that the life expectancy for a 65-year-old women in the US would rise to 25 years by 2020.
However, Moody’s said the IRS published its data before it had access to the SOA’s calculations. The credit rating agency estimated that the lower assumptions would reduce expected contributions from plan sponsors in 2016 by “at least $18 billion”. In addition, lump sum buyouts were expected to be cheaper as they also rely on the IRS’ longevity assumptions.
The IRS is expected to update its assumptions again next year, taking into account the SOA’s data. This will affect liability calculations from 2017.
While the news may lead to more de-risking deals in the next 18 months, Moody’s warned plan sponsors not to automatically cut contributions to underfunded pensions.
“Ultimately, the new [2017] tables will increase projected benefit obligations by approximately 6%, or $126 billion,” Moody’s said.
“Allocating $126 billion over seven years results in $18 billion of contributions deferred until 2017,” the credit rating agency added, referring to US regulations requiring pensions to have a seven-year plan to achieve full funding. “This is a credit positive from a liquidity perspective. But without addressing the underlying causes of pension plan funding levels, currently languishing at 78%, those who fund only the minimum required are simply kicking the can down the road.”
The potential savings next year will provide little short term respite for plan sponsors, however. In March, Russell Investments estimated that the liabilities for US corporate pensions above $20 billion rose by between 3% and 4% in 2014.
Moody’s previously stated that US corporates would have to find $110 billion to fund DB pension shortfalls. The increase in required funding to $126 billion since this estimate, published in November, indicates the rate at which liabilities have increased.
Related: How Longevity Will Scupper Your Investment Strategy & Rising Costs to Hit De-Risking Plans in 2015